This article has been written by Tejaswita Sahoo pursuing Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution and edited by Shashwat Kaushik.

This article has been published by Sneha Mahawar.

Introduction 

The new talk of the town is startups, and since the government took the initiative to launch the Startup Government Scheme, it has added fuel to the burning desire among all age groups. Youngsters whose hearts are filled with passion, homemakers whose fairy tale dreams were unfulfilled, or retirees or old-age people whose long-time desires were delayed can all fulfil them with startups. Startups within a startup help in building another startup. Confused? Imagine homemakers who were always praised for their exceptional cooking skills and are now encouraged by their children to start their own food delivery. With the help of food-delivery startups, homemakers can now make their own startups. The startups are serving society by solving the problems that we face on a daily basis.

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Want groceries at your home? – Order on Swiggy.

Want to pay money online, but hassle-free? – Pay using Paytm.

Want a ride to the office? – Book an Ola cab.

Want to stay at budget hotels? – Book an Oyo hotel.

Want to enjoy delicacies at home? – Order on Zomato.

Want beauty products? – Order on Nykaa.

Want online coaching? – Download Byjus.

…….and the list continues. If you think you have the potential to add anything to this list, are on the verge of adding to it, or are already on it, then you might look for certain other easy options available that might help you grow. One of the problems that startups frequently encounter is the legal challenge. This is the platform where entrepreneurs or aspiring entrepreneurs can find solutions to compliance issues, contractual disputes, the need for IP protection, and other legal challenges involved.

Before discussing the solutions to the legal challenges, let us look into what a startup means, what the legal concerns are in this field and what the solutions are to these challenges.

What can be called a startup

According to the Department for Promotion of Industry and Internal Trade (DPIIT), an entity can be called a startup if it follows these conditions:-

  • The entity is within a 10-year period starting from the date the entity was incorporated or registered.
  • It needs to be incorporated as a private limited company, partnership firm, or LLP.
  • Turnover (gross revenue) should not exceed 100 crore rupees in any given year.
  • The entity is working towards innovation, development or improvement of products, processes or services, or if it is a scalable business model with a high potential of employment generation or wealth creation
  • Also, it should be noted that an entity formed by splitting up or reconstructing an existing business shall not be considered a ‘startup’.

Different business structures for a startup 

India has offered many business structures to choose from. They are discussed as follows:-

Sole proprietorship

Want to build your own company? Want to be the owner of your own company? I don’t want to partner with anyone in case there is a clash of ideas.

If you have such questions pondering in your mind, then this might be a good choice for you. It is indeed the simplest form of business and is easy to set up. But there might be some issues with it:

  • You are on your own. If the company fails, then the entire liability of the company needs to be taken by the individual.
  • Also, there is no differentiation between personal and business assets. So in the event of losses incurred by the company, the proprietor needs to use its own resources to compensate for the loss.
  • Also, this business is not covered under the Startup India initiative, so you won’t be able to gain benefits from this initiative if you follow this business structure.

Partnership

Have like-minded people with you? Do they share a similar vision as you? – If yes, then this option might be good to go with.

Partnerships can be registered or unregistered, but unregistered partnerships do not enjoy certain legal protections. Also, if your startup is registered as a partnership firm under Section 59 of the Partnership Act of 1932, then you would be able to enjoy the benefits of the Startup India initiative. At times, there might be a clash of ideas but making a choice together might lessen the hurdles you might face in the future. 

Limited liability partnership (LLP)

Partnership is a great choice, but are you still afraid of the liabilities you and your partners might face?

A LLP is popular among startups for its flexibility and reduced compliance requirements. If you want to register your startup as an LLP, then you have to register it under the Limited Liability Partnership Act of 2008. This structure offers limited liability to its partners, allowing them to avoid personal liability for the company’s debts. This means that your personal assets won’t be used to recover losses incurred by the company. The only issue is that there might be a perceived complexity in the fact that these LLPs are less established than traditional companies.

But if you follow this business structure, you will be able to enjoy the benefits of the Startup India initiative.

Private limited company

Do you need a large amount of funds? – If yes, then this business structure allows you to raise funds with ease. Most technology startups in India prefer to register as private limited companies.

A private limited company is a separate legal entity, distinct from its shareholders, and is governed by the Companies Act, 2013. Also, if you follow this business structure, you will be able to enjoy the benefits of the Startup India initiative. The choice of business structure depends on many factors. This depends upon the startup’s objectives, scale, and long-term vision.

Benefits that startups can avail

The Indian government recognises the importance of startups in driving economic growth and innovation. To support and promote startups, the “Startup India” initiative was launched in 2016. Startups recognised under this initiative can avail of several benefits:

  • Tax holiday for three consecutive years within the first seven years of incorporation. Additionally, there’s a reduced tax rate for startups.
  • Patent applications are fast-tracked for a quicker approval process, promoting innovation.
  • Various funds and schemes have been launched to facilitate funding for startups. These include the Fund of Funds for Startups (FFS) and credit guarantee schemes.
  • Self-certification and reduced compliance burdens under labour and environmental laws, making it easier to focus on growth.
  • Relaxed regulations by SEBI facilitate fundraising for startups, making it more accessible and cost-effective.

These benefits make it easier for startups to attract investors and partners.

Safeguarding intellectual property 

Intellectual property is of great significance to startups, especially the newly-emerging ones. By protecting intellectual property, it allows us to safeguard innovations, brand identity, and competitive advantage. In India, several forms of intellectual property can be protected:

  • Patents: Governed by the Indian Patent Act of 1970. startups that have invented any new and useful processes or machines can register for patents for a specified period, typically 20 years.
  • Trademarks: Governed by the Trademarks Act of 1999. This would help you to protect your startup’s name, tagline, logo, signs or any other symbols.
  • Copyrights: Governed by the Copyright Act of 1957. If your startup is responsible for creating works like books, software, literature, art, and music, then your startup must definitely register for copyrights that grant exclusive rights to the creator for a specific period, typically the creator’s lifetime plus 60 years.
  • Trade secrets: Non-disclosure agreements (NDAs) and confidentiality clauses in contracts will help to prevent unauthorised disclosure or use of valuable information.
  • Designs: Governed by the Designs Act of 2000. This is particularly relevant for startups dealing with innovative product designs.

Proactively addressing intellectual property protection ensures that startups can defend their innovations, establish a strong market presence, and attract investors and partners with confidence.

External funding for startups

Startups often require external funding to fuel their growth and development. India provides a diverse range of options for fundraising and investment, catering to different stages of a startup’s journey:

  • Angel investors: They are high-net-worth individuals who provide financial backing to small startups in exchange for ownership equity. Ratan Tata (former chairman of Tata Sons), Kunal Bahl and Rohit Bansal (Snapdeal founders), and Nandan Nilekani (Cofounder of Infosys) are some of the well-known people who have funded many startups.
  • Venture Capital (VC): Venture capital firms invest in high-growth startups, offering more funding than angels and focusing on specific industries.
  • Private Equity (PE): Startups at later stages of growth may attract private equity investments to scale their operations or enter new markets. These investments are not listed on public stock exchanges.
  • Crowdfunding: Crowdfunding platforms help to raise capital from a large number of individuals or investors, thus generating funding while also gauging market interest.
  • Initial Public Offerings (IPOs): SEBI regulations govern the process and disclosure requirements for IPOs. Mature startups can go public via IPOs, listing shares on stock exchanges to raise capital from the public.
  • Debt financing: Startups go for debt financing, like bank loans or convertible notes, to meet their financial needs without diluting equity.

The Securities and Exchange Board of India (SEBI) has introduced specific regulations and relaxed norms for startups looking to raise funds through IPOs, making it a viable option for growth-stage startups.

Acts for the startups to comply with

Compliance with legal and regulatory requirements is paramount for startups to operate within the bounds of the law and avoid legal complications. Key areas of regulatory compliance include:

  • Companies Act, 2013,
  • Goods and Services Tax (GST) Act,
  • Income tax regulations,
  • Foreign Direct Investment (FDI) regulations, 
  • Digital Personal Data Protection Act of 2023,
  • Securities laws administered by SEBI.
  • Labour laws and employment regulations,
  • Environmental and regulatory permits, and
  • Intellectual property laws.

All about employee security in a startup

If your startup has effective human resource management, then it can attract people to work at your place. Complying with labour and employment regulations is necessary for a healthy and productive work environment. You can provide security to your employees in the following ways:-

  • In its initial stage, it would be a matter of difficulty for the startup to pay its employees. But the startup should pay at least the minimum wage prescribed by the relevant state government.
  • Startups should follow those regulations that stipulate working hours, overtime, and rest periods for employees. 
  • The startups should provide employee benefits such as Provident Fund (PF), Employee State Insurance (ESI), and gratuity.
  • Maintaining safety standards and providing a safe working environment for employees is of utmost importance.
  • Compliance with anti-discrimination and sexual harassment laws is essential.
  • Employment contracts should outline terms and conditions, including compensation, benefits, terms of termination, and probation periods (if any).
  • Understanding the regulatory framework for Employee Stock Options (ESOPs) is crucial so as to attract and retain talent.

Options to end a startup

It is true that you might have an idea to build another startup or you might think about the need for growth and expansion of startups. In this case, planning for exit strategies becomes important. Whether through mergers and acquisitions (M&A), IPOs, or winding up, startups must navigate legal processes and regulatory requirements:

Mergers and Acquisitions (M&A): Startups may merge with or be acquired by larger companies as part of their growth strategy. Legal due diligence, negotiation, and compliance with competition and corporate laws are critical in M&A transactions.

Initial Public Offerings (IPOs): Going public allows startups to raise capital from the public markets and offers an exit for early investors. SEBI regulations govern the process, including disclosures and listing requirements.

What if a startup faces losses

If a startup cannot continue operations, it may choose to wind up the business voluntarily or due to insolvency. Winding up involves settling debts, liquidating assets, and complying with insolvency laws.

There are three ways to shut down a startup:

  1. Fast track exit mode: It is best suited as it requires companies to shutdown at a lower cost and in less time. In order to be eligible for this mode, the business must be completely debt-free, meaning it cannot engage in any financial activities or transactions. It should also have stopped operations for at least a year before the application, or it should not have started any business activity or operations since its incorporation (which is less likely).
  2. Voluntary closure: For voluntary closure, the shareholders and creditors must be on same page with regards to details of closure. It is generally not preferred.
  3. Courts or tribunals: It is the traditional mode, can lead to prolonged court proceedings and is generally not suited for a startup.

Practical considerations

Some practical considerations for startups:

  • First, choosing an appropriate business structure is vital for a startup; it could be an LLC or a corporation, depending on the needs and purpose.
  • Registration of a business name is important for startups to obtain a unique identity.
  • Open a separate bank account for the startup to manage the transactions.
  • Obtain the necessary insurance for your startup to protect its assets and mitigate risks.
  • Seek assistance from lawyers and accountants to ensure proper regulatory compliance and informed decisions.
  • Obtain a Tax ID number, whether state or federal.
  • Some documents are very important for startups in India and the directors must be very careful with these documents and check all the details thoroughly. These are:
    • Certificate of Incorporation
    • Digital Signature Certificate
    • Intellectual Property Rights Certificate, and
    • GST reg. Certificate, commencement of business certificate, etc.
  • Registering the startup under the required laws is very mportant, such as the Companies Act of 2013, the Indian Partnership Act of 1932, the Limited Liability Partnership Act of 1932, etc.

Conclusion

The article has explained all the compliances a startup should follow. Whether it is a new startup or an experienced startup, a startup should follow all the rules and regulations for ease in conducting business. It might be easy for profitable and experienced startups to hire a dedicated team of legal professionals to deal with legal matters. But for a new startup, it is difficult to know about every bit of legal information to tackle legal challenges that come up every now and then. 

What is suggested in this case is that the startups can first get an overview of all the rules and regulations from this article or other websites. Second, they can ask for legal work to be done by freelancers, who might charge less money. The startups can do their work on freelancing websites like Upwork. This might help the startups achieve the objective of ‘Ease of Doing Business’.

If you know the law, you can use it in your favour, and you can save yourself from unnecessary complications. With millions of people in India, the opportunities are unlimited, as the market is diverse. When trends today change in a fraction of time, startups are the way to go and legal knowledge would let them stand strong like an iron pillar.

References

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